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2
(2) 0.146 0.140 8.819*** 0.090 1.940 3.158* 0.164
p-value 0.702 0.709 0.003 0.764 0.163 0.076 0.685
47
Table VI
Hedge Funds on Equity Committee
This table presents the effect of hedge fund presence on the equity committee (HFEquityCommittee) on Chapter 11 outcomes, including (1) emergence (Emerge), (2) the logarithm
of the number of months in bankruptcy (Duration), (3) equity holders receiving positive payoffs (DistEquity), (4) average recovery rate of all corporate debt at plan confirmation
(DebtRecovery), (5) standardized equity abnormal monthly returns from two days before filing to plan confirmation (StkRet), (6) CEO turnover during Chapter 11 reorganization
(CEOTurnover), and (7) adoptions of key employee retention plan (KERP). Variable definitions are provided in Table I. Panel A presents results from a simple probit (when the
outcome variable is binary, in Columns (1), (3), (6), and (7)) or an OLS (when the outcome variable is continuous, in Columns (2), (4), and (5)) regression model. Panel B presents
results from a binary outcome model with a binary endogenous explanatory variable (when the outcome variable is binary) or a treatment regression model (when the outcome
variable is continuous), as shown in equation (1). Instrumental variables in the selection equation are the lagged return on an index of distress-investing hedge funds
(DistressHFRet) and the lagged monthly return on the S&P 500 index (SP500Ret), coefficients on which are reported. Also reported at the bottom of Panel B is the sign of , the
correlation coefficient of the residuals from the selection regression and the outcome regression, as well as the
2
statistic and the associated p-value from a likelihood ratio test for
the null H
0
: = 0. The numbers in brackets are standard errors. ***, **, * correspond to statistical significance at the 1%, 5%, and 10% levels, respectively.
Panel A: Probit/OLS
(1) (2) (3) (4) (5) (6) (7)
Emerge Duration DistEquity DebtRecovery StkRet CEOTurnover KERP
HFEquityCommittee 0.390 0.160 1.246*** 0.182*** 0.157*** 0.684** -0.178
[0.298] [0.149] [0.281] [0.068] [0.043] [0.268] [0.287]
Ln(Assets) 0.035 0.046 -0.075 -0.031** -0.011 0.162*** 0.312***
[0.064] [0.033] [0.073] [0.015] [0.010] [0.062] [0.064]
Leverage 0.841*** -0.090 -0.025 -0.053 0.011 0.090 0.276
[0.229] [0.100] [0.208] [0.047] [0.034] [0.212] [0.188]
Cash -0.898 -0.931** -0.376 0.145 0.041 -1.567* 0.215
[0.774] [0.398] [0.906] [0.193] [0.127] [0.825] [0.768]
Tangibility 0.201 -0.116 0.883*** 0.219*** 0.019 -0.108 -0.260
[0.293] [0.148] [0.312] [0.067] [0.046] [0.292] [0.280]
ROA 0.911* 0.001 -0.307 0.301** 0.043 0.109 1.010**
[0.491] [0.243] [0.550] [0.123] [0.087] [0.515] [0.483]
SecuredDebt 0.038 -0.326** -0.347 -0.037 -0.011 -0.659** 0.288
[0.276] [0.131] [0.285] [0.061] [0.044] [0.290] [0.251]
Institution 0.124 0.152 0.112 0.009 0.033 0.213 0.714**
[0.291] [0.148] [0.332] [0.068] [0.050] [0.279] [0.278]
NumClasses 0.126*** 0.015 0.044* 0.012** 0.002 0.005 0.020
[0.028] [0.012] [0.026] [0.006] [0.004] [0.024] [0.023]
Prepack 1.154*** -1.242*** 1.205*** 0.193*** 0.027 -0.383** -0.978***
[0.171] [0.078] [0.157] [0.035] [0.026] [0.159] [0.155]
Delaware -0.204 -0.117* 0.140 0.008 0.021 0.001 0.188
[0.136] [0.070] [0.151] [0.032] [0.023] [0.137] [0.132]
Constant -2.152*** 2.616*** -1.526*** 0.509*** -0.048 -1.591*** -2.870***
[0.508] [0.250] [0.557] [0.116] [0.079] [0.483] [0.489]
N 459 459 459 388 334 442 459
Pseudo-R
2
or R
2
0.210 0.435 0.199 0.155 0.054 0.079 0.163
48
Panel B: Binary Outcome with a Binary Endogenous Explanatory Variable Model/Treatment Regression
(1) (2) (3) (4) (5) (6) (7)
Emerge Duration DistEquity DebtRecovery StkRet CEOTurnover KERP
HFEquityCommittee 1.205* -0.548* -0.334 0.186 0.135** 2.332*** 0.279
[0.661] [0.324] [0.470] [0.224] [0.065] [0.166] [0.961]
Ln(Assets) 0.020 0.056* -0.031 -0.031** -0.011 0.127** 0.304***
[0.065] [0.034] [0.071] [0.015] [0.010] [0.058] [0.068]
Leverage 0.878*** -0.123 -0.115 -0.052 0.009 0.140 0.296
[0.229] [0.102] [0.207] [0.048] [0.034] [0.207] [0.191]
Cash -0.762 -1.032** -0.538 0.146 0.037 -1.309* 0.281
[0.778] [0.405] [0.875] [0.191] [0.125] [0.784] [0.776]
Tangibility 0.246 -0.161 0.730** 0.220*** 0.018 -0.043 -0.229
[0.291] [0.151] [0.311] [0.068] [0.046] [0.281] [0.286]
ROA 0.898* 0.013 -0.207 0.301** 0.043 0.189 1.002**
[0.491] [0.246] [0.541] [0.121] [0.086] [0.506] [0.483]
SecuredDebt 0.001 -0.302** -0.268 -0.038 -0.009 -0.690** 0.269
[0.276] [0.133] [0.278] [0.061] [0.043] [0.273] [0.254]
Institution -0.037 0.285* 0.459 0.008 0.038 -0.116 0.628*
[0.316] [0.160] [0.334] [0.082] [0.050] [0.266] [0.331]
NumClasses 0.123*** 0.016 0.043* 0.012** 0.002 0.001 0.019
[0.028] [0.013] [0.024] [0.005] [0.004] [0.023] [0.023]
Prepack 1.106*** -1.227*** 1.160*** 0.193*** 0.028 -0.375** -0.980***
[0.179] [0.079] [0.158] [0.035] [0.026] [0.152] [0.155]
Delaware -0.179 -0.132* 0.093 0.008 0.020 0.046 0.196
[0.137] [0.071] [0.146] [0.032] [0.023] [0.132] [0.132]
Constant -2.075*** 2.598*** -1.612*** 0.509*** -0.049 -1.374*** -2.838***
[0.513] [0.253] [0.528] [0.115] [0.078] [0.460] [0.500]
IV: DistressHFRet 10.134*** 9.414*** 10.542*** 8.962** 9.383** 9.671*** 10.035***
[3.691] [3.477] [3.165] [4.116] [3.965] [3.210] [3.674]
IV: SP500Ret 4.066** 4.216** 3.348** 5.100** 4.366** 3.624*** 4.058**
[1.742] [1.661] [1.575] [2.103] [1.942] [1.389] [1.739]
Sign of + + +
LR Test of = 0:
2
(2) 1.220 2.210 4.129** 0.001 0.180 9.815*** 0.204
p-value 0.269 0.138 0.042 0.985 0.674 0.001 0.652
49
Table VII
Hedge Funds Loan-to-Own
This table presents the effect of hedge funds adopting a loan-to-own strategy (HFLTO) on Chapter 11 outcomes, including (1) the logarithm of the number of months in bankruptcy
(Duration), (2) debtors loss of exclusive rights to file a plan of reorganization after 180 days in bankruptcy (LossExclusivity), (3) APR deviation for secured creditors
(APRCreditor), (4) equity holders receiving positive payoffs (DistEquity), (5) average recovery rate of all corporate debt at plan confirmation (DebtRecovery), (6) CEO turnover
during Chapter 11 reorganization (CEOTurnover), and (7) adoptions of key employee retention plan (KERP). Variable definitions are provided in Table I. Panel A presents results
from a simple probit (when the outcome variable is binary, in Columns (2), (3), (4), (6), and (7)) or an OLS (when the outcome variable is continuous, in Columns (1) and (5))
regression model. Panel B presents results from a binary outcome model with a binary endogenous explanatory variable (when the outcome variable is binary) or a treatment
regression model (when the outcome variable is continuous), as shown in equation (1). Instrumental variables in the selection equation are the lagged return on an index of
distress-investing hedge funds (DistressHFRet) and the lagged monthly return on the S&P 500 index (SP500Ret), coefficients on which are reported. Also reported at the bottom
of Panel B is the sign of , the correlation coefficient of the residuals from the selection regression and the outcome regression, as well as the
2
statistic and the associated p-value
from a likelihood ratio test for the null H
0
: = 0. The numbers in brackets are standard errors. ***, **, * correspond to statistical significance at the 1%, 5%, and 10% levels,
respectively.
Panel A: Probit/OLS
(1) (2) (3) (4) (5) (6) (7)
Duration LossExclusivity APRCreditor DistEquity DebtRecovery CEOTurnover KERP
HFLTO 0.050 -0.084 0.668*** 0.328** 0.059 -0.141 0.298*
[0.085] [0.182] [0.182] [0.166] [0.037] [0.165] [0.159]
Ln(Assets) 0.048 -0.391*** 0.069 -0.092 -0.035** 0.153** 0.271***
[0.035] [0.089] [0.078] [0.074] [0.016] [0.063] [0.067]
Leverage -0.118 -0.029 -0.390 -0.214 -0.042 0.144 0.324
[0.111] [0.217] [0.271] [0.226] [0.050] [0.222] [0.206]
Cash -0.934** -0.111 0.082 -1.046 0.135 -2.114** 0.064
[0.414] [0.845] [1.013] [0.940] [0.199] [0.861] [0.792]
Tangibility -0.199 0.434 -1.506*** 0.740** 0.204*** -0.248 -0.308
[0.158] [0.325] [0.402] [0.318] [0.070] [0.301] [0.296]
ROA -0.092 -0.311 -0.132 -0.839 0.326** -0.127 0.902
[0.295] [0.550] [0.772] [0.613] [0.140] [0.593] [0.553]
SecuredDebt -0.333** -0.476 1.730*** -0.308 0.017 -0.543* 0.390
[0.147] [0.310] [0.329] [0.304] [0.064] [0.304] [0.277]
Institution 0.147 0.065 -0.203 0.694** 0.095 0.542** 0.757***
[0.153] [0.324] [0.356] [0.317] [0.067] [0.276] [0.285]
NumClasses 0.021 -0.001 0.054* 0.029 0.005 0.004 0.023
[0.014] [0.028] [0.030] [0.026] [0.006] [0.026] [0.026]
Prepack -1.233*** -0.064 0.170 1.172*** 0.190*** -0.331** -1.197***
[0.084] [0.172] [0.182] [0.165] [0.036] [0.164] [0.169]
Delaware -0.113 -0.400*** 0.286* 0.112 -0.027 -0.048 0.103
[0.074] [0.155] [0.171] [0.153] [0.033] [0.141] [0.138]
Constant 2.594*** 1.952*** -2.105*** -1.128** 0.573*** -1.510*** -2.626***
[0.273] [0.635] [0.624] [0.569] [0.124] [0.505] [0.524]
N 416 416 416 416 359 407 416
Pseudo-R
2
or R
2
0.434 0.093 0.174 0.166 0.143 0.067 0.191
50
Panel B: Binary Outcome with a Binary Endogenous Explanatory Variable Model/Treatment Regression
(1) (2) (3) (4) (5) (6) (7)
Duration LossExclusivity APRCreditor DistEquity DebtRecovery CEOTurnover KERP
HFLTO 0.328 1.604*** -0.179 1.106 0.709*** 1.086*** -0.176
[0.569] [0.285] [0.771] [0.737] [0.0704] [0.389] [0.781]
Ln(Assets) 0.032 -0.381*** 0.116 -0.129* -0.074*** 0.065 0.290***
[0.046] [0.079] [0.084] [0.077] [0.022] [0.068] [0.070]
Leverage -0.148 -0.172 -0.256 -0.286 -0.103 0.012 0.367*
[0.127] [0.192] [0.299] [0.224] [0.068] [0.209] [0.213]
Cash -0.872** 0.012 -0.169 -0.865 0.280 -1.670** -0.054
[0.432] [0.776] [1.012] [0.929] [0.270] [0.830] [0.810]
Tangibility -0.240 0.110 -1.248** 0.581 0.107 -0.363 -0.234
[0.179] [0.298] [0.512] [0.355] [0.095] [0.283] [0.322]
ROA -0.100 -0.374 -0.114 -0.820 0.328* -0.033 0.899
[0.295] [0.498] [0.732] [0.601] [0.190] [0.560] [0.550]
SecuredDebt -0.285 -0.140 1.442*** -0.147 0.127 -0.300 0.299
[0.177] [0.283] [0.495] [0.337] [0.087] [0.297] [0.318]
Institution 0.153 0.116 -0.209 0.665** 0.109 0.482* 0.729**
[0.153] [0.279] [0.340] [0.314] [0.091] [0.264] [0.291]
NumClasses 0.014 -0.042* 0.074** 0.007 -0.012 -0.031 0.035
[0.020] [0.025] [0.032] [0.034] [0.008] [0.026] [0.031]
Prepack -1.266*** -0.201 0.262 1.015*** 0.133*** -0.416*** -1.113***
[0.107] [0.149] [0.190] [0.259] [0.050] [0.152] [0.248]
Delaware -0.116 -0.328** 0.280* 0.103 -0.045 -0.044 0.106
[0.074] [0.139] [0.166] [0.148] [0.045] [0.132] [0.137]
Constant 2.727*** 2.191*** -2.440*** -0.706 0.878*** -0.714 -2.792***
[0.382] [0.541] [0.629] [0.695] [0.170] [0.574] [0.548]
IV: DistressHFRet 4.466** 3.871** 5.013*** 4.697*** 4.803*** 5.072*** 4.568**
[1.919] [1.719] [1.757] [1.736] [1.312] [1.654] [1.786]
IV: SP500Ret 0.590 -0.121 0.136 0.476 0.250 0.635 0.575
[1.099] [0.934] [1.067] [1.036] [0.700] [0.972] [1.069]
Sign of + +
LR Test of = 0:
2
(2) 0.210 4.637** 1.089 0.615 18.210*** 4.023** 0.385
p-value 0.646 0.031 0.297 0.433 0.000 0.045 0.535
51
Table VIII
Market Reactions to Chapter 11 Filing
This table presents OLS regression results examining the determinants of cumulative abnormal returns (CARs, adjusted by
the CRSP equal-weighted return) measured over two event windows around Chapter 11 filing. Columns (1) and (3) present
univariate regression results, and Columns (2) and (4) include control variables. Variable definitions are provided in Table I.
Numbers in brackets are standard errors. ***, **, * correspond to statistical significance at the 1%, 5%, and 10% levels,
respectively.
(1) (2) (3) (4)
CAR[-5, +5] CAR[-5, +5] CAR[-10, +10] CAR[-10, +10]
HFLargestCreditors 0.168** 0.220** 0.247** 0.323***
[0.085] [0.100] [0.099] [0.115]
AssetsChange 0.311** 0.245
[0.142] [0.164]
CBLenders -0.084 -0.015
[0.106] [0.121]
Ln(Assets) -0.048 -0.065
[0.036] [0.042]
NumClasses 0.010 0.010
[0.014] [0.016]
Prepack 0.066 0.076
[0.099] [0.113]
Delaware -0.029 0.070
[0.091] [0.104]
Constant -0.185*** 0.165 -0.315*** 0.042
[0.044] [0.273] [0.051] [0.315]
N 274 202 277 205
R
2
0.014 0.068 0.022 0.077
52
Table IX
Ordered Probit Analysis of Chapter 11 Outcomes
This table presents the ordered probit regression results examining the determinants of Chapter 11 outcomes. The outcome
of emergence and no re-filing is coded as the high outcome (= 3), emergence with later re-filing is coded as the medium
outcome (= 2), and liquidation (or acquisition) in the first round is coded as the low outcome (= 1). Variable definitions are
provided in Table I. Numbers in brackets are standard errors. ***, **, * correspond to statistical significance at the 1%, 5%,
and 10% levels, respectively.
(1) (2) (3)
HFCreditorsCommittee 0.354**
[0.138]
HFEquityCommittee 0.422
[0.270]
HFLTO 0.931***
[0.152]
Ln(Assets) 0.047 0.052 0.03
[0.064] [0.059] [0.063]
Leverage 0.411** 0.511*** 0.443**
[0.205] [0.179] [0.198]
Cash -1.422* -0.703 -0.818
[0.765] [0.702] [0.734]
Tangibility 0.123 0.163 -0.102
[0.290] [0.259] [0.278]
ROA -0.221 0.591 0.182
[0.557] [0.429] [0.497]
SecuredDebt -0.002 0.028 0.206
[0.281] [0.233] [0.258]
Institution 0.163 0.167 0.289
[0.275] [0.258] [0.269]
NumClasses 0.133*** 0.117*** 0.105***
[0.028] [0.024] [0.028]
Prepack 0.805*** 0.752*** 0.644***
[0.152] [0.137] [0.147]
Delaware -0.258* -0.209* -0.290**
[0.133] [0.121] [0.129]
N 369 459 416
Pseudo-R
2
0.122 0.114 0.157
1
See Hedge Funds Turn up the Volume, by Aaron Siegel in Investment News, September 14, 2006:
http://www.investmentnews.com/apps/pbcs.dll/article?AID=/20060914/REG/609140707/1094/INDaily03&ht=.
53
2
See Rosenberg (2000) (especially Chapter 1) and Harner (2008a) for a discussion of the history of distress investing, and
how distress-investing hedge funds have evolved beyond their vulture predecessors over the past decade.
3
Holding a large position in a portfolio firm and/or being involved in the management of the firm brings legal uncertainties
and obligations to an investor and often imposes restrictions on the latters trading due to insider trading considerations. This
is one major reason cited by Black (1990) for why most mutual funds (for whom liquidity is important) and institutional
fiduciaries (to whom legal risks can pass through) remain passive shareholders.
4
The list of studies includes: Eisenberg and LoPucki (1999), Lopucki and Doherty (2002), Dahiya, et al. (2003), Ayotte and
Skeel (2004), LoPucki and Doherty (2004), Adler, Capkun, and Weiss (2006), Bris, Welch, and Zhu (2006), Adler, Capkun,
and Weiss (2007), Kalay, Singhal, and Tashjian (2007), Bharath, Panchapegesan, and Werner (2007), Capkun and Weiss
(2008), Ayotte and Morrison (2009), and Lemmon, Ma, and Tashjina (2009).
5
The Internet Appendix is available on the Journal of Finance website at http://www.afajof.org/supplements.asp.
6
We use the filing dates of the parent companies if there are also filings by subsidiaries. In practice they usually get
consolidated in the same court. We manually check the related filings in LoPuckis database and find that fewer than 5%
of the cases have affiliate filings elsewhere on the same day or before.
7
We use market values of equity and warrants at emergence to calculate debt recovery.
8
Our sample statistics are consistent with Bharath, Panchapegesan, and Werner (2007) and Capkun and Weiss (2008) using
more recent data.
9
The duration statistics for 2007 are not included to mitigate the truncation bias toward the end of our sample.
10
In most Chapter 11 cases, the United States trustee appoints seven of the debtors largest unsecured creditors to the
unsecured creditors committee as dictated by the U.S. Bankruptcy Codes Section 1102. An appointment to the committee
can enhance controlling creditors involvement in the debtors restructuring and further their investment agenda (Harner
54
(2008a)). The committee usually hires professionals (counsels and financial advisors) to serve as its representatives. Though
it does not directly vote on a reorganization plan, the committee makes recommendations to creditors. On the other hand, it is
rare to have secured creditors form a committee of their own given that their claims are already collateralized.
11
The reorganization plan does not identify whether a particular creditor receives equity distribution. Instead, we infer this
information from statements that indicate a certain class of creditors receives equity distribution.
12
A recent example is General Growth Properties Inc. in 2009. Farallon Capital Management LLC offered DIP financing
that can be converted into 8% to 10% of the common stock on the effective date of the reorganization plan. For recent
examples and related discussions, see KKR Turns Vulture Investor as Distressed Debt Beckons, by Bravo and Hester in
Bloomberg News, September 3, 2009.
13
Unlike the unsecured creditors committee, the equity committee is not common (see Bharath, Panchapegesan, and Werner
(2007) and our statistics in Table II Panel A). Parties (usually the seven largest equity holders as dictated by the U.S.
Bankruptcy Codes Section 1102) that have intention to form the equity committee need to submit motions to the court. Once
approved by the court, these parties will most likely become members.
14
One of Harners (2008b) survey questions is how often does your firm invest in a companys distressed debt to try to
acquire the company or a controlling ownership position in the company, and how often is your firm successful in acquiring
at least a controlling ownership position? Thirty-two percent of the respondents indicate that they engage and succeed in this
practice.
15
It is worth noting that adding year and industry (based on two-digit SIC codes) fixed effects does not qualitatively change
our main findings in the paper. Further, under most model specifications, these fixed effects are not individually statistically
significant.
16
The different classes of claims include, for example, tax claims, secured claims, priority non-tax claims, bank loan claims,
secured debt claims, unsecured debt claims, worker compensation claims, general unsecured claims, litigation claims,
55
intercompany interests, convenience claims (smaller amount unsecured claims), subordinated claims, equity claims, and
warrants and unexercised options.
17
See, for example, Riding the Fulcrum Seesaw; How Hedge Funds Will Change the Dynamics of Future Bankruptcies, by
Mark S. Lichtenstein and Matthew W. Cheney in New Jersey Law Journal, January 1, 2008.
18
See Li and Prabhala (2007) for an overview of self-selection in corporate finance.
19
For more detailed stories, see Allied Holdings Creditors Object to a 5-month Exclusivity Extension, by Marie Beaudette
in Dow Jones Newswires, April 7, 2006, KCS Energy/Plan -2: CSFB, Creditors Have Alternative Plan, in Federal Filings
Newswires, August 15, 2000, and Sunbeam Creditor Committee Wants to Propose Another Plan, in Associated Press
Newswires, April 18, 2002, respectively.
20
Gilson and Vetsuypens (1993) show that KERPs tie managers pay to creditors recoveries and the restructuring progress.
See also Worldcom Judge Approves Plan to Keep Employees, by Rebecca Blumenstein in Wall Street Journal, A7,
October 30, 2002.
21
We could not use our default measure of hedge funds presence on the unsecured creditors committee because the
committee is usually formed during Chapter 11.
22
Two major changes have been brought by BAPCAP. First, BAPCPA curbs the usage of KERP. Second, debtors have
exclusive rights to file a reorganization plan for only 18 months after a Chapter 11 filing, instead of enjoying potentially
unlimited extensions.
23
For a more detailed story, see Worldcom Judge Approves Plan to Keep Employees, by Rebecca Blumenstein in Wall
Street Journal, A7, October 30, 2002. Movies Gallery Inc. is another example. Its 2008 10K filings stated that the company
expect[s] to make cash payments during the course of fiscal 2008 of approximately $13 million for employee retention and
56
severance programs related to changes in our management team and consolidation of certain corporate functions. On the
other hand, the former chairman/CEO/founder, Joe Malugen, was replaced by C.J. Gabriel Jr. on May 20, 2008.